As promised, this is the first in a series of posts about Halbig v. Sebelius, a case challenging a significant power grab by the IRS, in which we recently filed an amicus brief, which you can find here.

Let’s begin with some background. The Affordable Care Act (ACA), also known as Obamacare, was designed as an incentive scheme to coerce individuals and employers into signing up for an expensive health-insurance plan. Under the scheme, individuals without employer-provided health insurance would be incentivized—through various tax penalties and tax subsidies—to purchase health insurance through an ACA-created Exchange.

The ACA conceives of Exchanges as principally State operations, and encourages/directs States to create Exchanges. Section 1311 of the ACA (42 U.S.C. § 18031) lays out several of these incentives, such as grants and tax subsidies, including provisions that allow tax subsidies to apply to individuals who purchase insurance plans from a state-run Exchange (“established by the State”). In the event that a state wouldn’t (or couldn’t) set up an Exchange in time for 2014, Section 1321 of the ACA (42 U.S.C. § 18041) gives the Department of Health and Human Services (HHS) the responsibility of establishing a federal exchange for that state, but contains none of the language about tax subsidies contained in Section 1311.

But by the statutory deadline, only 17 States had opted to create their own Exchanges under Section 1311. This meant that under the ACA, HHS became responsible for creating a federal Exchange for the remaining states. This also created a dilemma: How do you convince people to buy expensive health insurance on a federal Exchange without a tax subsidy to defray the enormous cost of insurance?

The IRS tried to gloss over the issue, issuing regulations that authorize tax subsidies for plans issued through both State and federal Exchanges. Under the IRS’s theory, then, tax subsidies flow to individuals who buy insurance under either exchanges established by either a State or by the federal government.

But the statute establishing the tax subsidy actually says something quite different. Section 1401 of the ACA (codified at 26 U.S.C. § 36B) says that the tax subsidy only applies to plans enrolled through “an Exchange established by the State under [Section] 1311 of the Patient Protection and Affordable Care Act,” (emphasis added) that is, under the provision regulating the creation of State Exchanges. Conspicuously absent is any reference to Section 1321 federal Exchanges. So the effect of the IRS’s regulation is to grant an enormous tax benefit to states that chose not to avail themselves of Section 1311.

Everyone agrees that the ACA does not expressly authorize tax subsidies for plans purchased on federally-created Exchanges and that it does so expressly for plans purchased on State-created Exchanges. And this makes sense: The ACA’s drafters expected the States to opt into the federal scheme enthusiastically, so they did not ensure the continuation of the incentive scheme by linking these incentives to the federal Exchanges. So the legal question before the D.C. Circuit Court of Appeals is about how far an agency can stretch a statute in search of authorization to provide a tax subsidy.

We believe that the district court has stretched the statute too far. In my next post, I will explain the government’s interpretation and briefly outline the lower court’s decision that is currently on appeal to the D.C. Circuit. After that I will explain some of the principles that should guide the D.C. Circuit and what is at stake in this case.